Almost 10 years ago, I sat in a secure conference room at the Pentagon and explained to a group of U.S. national security officials from the military, CIA, Treasury and other agencies that the overuse of the U.S. dollar in financial warfare would eventually drive countries away from using dollars in international transactions for fear that they could become the next target of U.S. displeasure.
I said to the military and intelligence community, “I don’t think other countries can destroy the dollar, but we can do it ourselves. We are our own worst enemy.”
We, of course, meaning the United States. We’re destroying the dollar with the sanctions (and through other misguided policies). The U.S. is doing more to destroy the dollar than our enemies.
Some took note, some ignored the warning and one Treasury official slammed the table and said, “The dollar has been the global reserve currency, it is the global reserve currency now and it always will be the global reserve currency!”
Well, a lot has changed over the past 10 years — and especially over the past (roughly) two years.
The More Things Change…
But still many government officials and senior intelligence community members are stuck in this type of thinking.
Earlier this year, I taught a seminar at the U.S. Army War College on financial warfare.
I explained that U.S. financial sanctions would not have a material impact on Russia, that Russia would not change its behavior in Ukraine based on the sanctions and that the U.S. would suffer more from its own sanctions than Russia because adversaries and neutral countries would create alternative payment platforms that did not use dollars.
I naturally encountered skepticism from the class (that’s OK; the purpose of a seminar is to engender competing views).
But events of the past year have proved my forecast in every respect.
I Told You So
The Russian economy is predicted to grow this year, despite all the sanctions. Russian oil exports, for example, are higher than ever.
Russia’s also buying high-tech goods from China, including some military hardware and other manufactured goods. China’s buying Russian oil and natural gas, in addition to agricultural output and weapons.
That’s a big two-way trade, and the dollar isn’t being used. Russia’s paying yuan, and China’s paying rubles.
Meanwhile, nations around the world are trying to eliminate or reduce their dependence on the dollar out of fear that the U.S. could use Russia-style sanctions against them if the U.S. disapproves of their conduct.
None of the sanctions would be effective or even possible without the use of the dollar and the dollar payments system.
Not Even Janet Yellen Can Deny It
The failure of U.S. dollar-based sanctions has become too obvious to ignore. The failure is so obvious that even Janet Yellen has admitted that sanctions are not working.
She said, “There is a risk when we use financial sanctions that are linked to the role of the dollar that over time it could undermine the hegemony of the dollar. Of course, it does create a desire on the part of China, of Russia, of Iran to find an alternative.”
One could say that realizing the dangers 10 years too late is still better late than never.
The issue is whether it’s already too late to undo the damage. Once new trading currencies and new payment channels are put in place (which is happening quickly), there’s little incentive to go back to a dollar system where the U.S. can threaten your economy.
Many others have pointed out the same weaknesses in the weaponization of the dollar. It seems the only parties who don’t see the danger to the dollar are the Wall Street cheerleaders and top U.S. government officials.
Which brings me to the recently elected speaker of the House, Mike Johnson…
After several weeks of seeming chaos in October, the House of Representatives finally elected a new speaker of the House, Mike Johnson.
Johnson is a mild-mannered conservative and relatively new member from Louisiana. Johnson is a brilliant constitutional scholar.
He got off to a good start by separating financial support for Israel from support for Ukraine. Both bills will probably pass, but by separating them, Johnson avoided the trap of having to vote for Ukraine in order to support Israel. Many members support the latter but oppose the former and now they can make their voices heard with separate votes.
So far, so good.
Now Johnson has committed a blunder so egregious that it could rock the global financial system and cause a financial panic.
Unfortunately, Johnson’s lack of experience in international monetary affairs has left him blind to the dangers.
Right now, the U.S. holds about $300 billion of Russian assets that were frozen after the Ukraine war broke out in February 2022. Most of those assets came from the Central Bank of Russia and consist of U.S. Treasury securities.
Technically, those assets have not been converted to U.S. ownership; they have merely been frozen and still belong to Russia even though Russia cannot use them. Now Johnson wants to convert those assets to U.S. ownership and use the proceeds to pay for the war in Ukraine.
Johnson said, “It would be pure poetry to fund the Ukrainian war effort with Russian assets.” It would be pure stupidity is more like it.
Such an action would amount to a default on U.S. government debt since the securities were legally owned by Russia.
Nations around the world would take note and accelerate their dumping of Treasury securities and their flight from the U.S. dollar. This would increase interest rates in the U.S. and hurt everyone from homebuyers to everyday consumers.
It would make U.S. debt permanently more difficult to sell and less desirable to hold. It would introduce a new risk premium on U.S. debt over and above the existing inflation premium.
At its worst, it could trigger a dollar panic and full-scale flight from the dollar. Johnson is playing with fire and has no idea what he is doing.
Let’s hope he receives some sound advice before he goes too far.